Are We Headed for a Recession? Ask an Economist…

dadIf your work touches the restructuring world (or if you’re married to one of us), you know that one of our favorite topics of cocktail and conference small talk is to speculate about when a recession will hit.  And when work will pick up. Now, many of you have lawyers and accountants in your families. It just so happens that I have a family economist, Dr. Michael M. Kurth, Ph.D.

So this week, let’s ask dad: “Are we headed for a recession?”  (And yes, the following dialog really is representative of family dinner conversation at my house.)

Trump Claims That We Are in the Midst of a Tremendous Economic Expansion That Makes This the Greatest Economy in the HISTORY of America…. Is that True?

Well, Daughter.  (There are six of us.  He can’t keep track.  So I am “Daughter.”  Or as I prefer, “First Daughter.”)  There is no question that investment has soared after Congress cut the corporate tax rate from 21% to 35%. And we currently have record low unemployment.

Is This Economic Performance Sustainable or Is a Recession Coming?

The president’s economic team claims that gross domestic product (GDP) will be growing at a rate of 5% or more by year end.  But there are growing indications the economy may be headed in the opposite direction.  The most recent sign of an impending recession is the flattening of the yield curve that measures the difference between short-term and long-term interest rates.

How Reliable Is the Yield Curve in Predicting a Recession?

Its a very reliable indicator.  It has predicted every recession for the last 60 years.  Here’s how it works.  (In case you were going to ask...)

The yield curve is normally upward sloping, indicating that long-term interest rates are higher than short-term rates. This is because lenders and investors generally consider long-term loans to be riskier than short-term loans and they require higher interest to compensate them for the additional risk.  (That makes sense.)

When the yield curve turns negative – referred to as an “inverted” yield curve – it means that short-term interest rates are higher than long term rates.  That, in turn, suggests that lenders and investors consider the short-term riskier than the long-term. This has happened 10 times since 1955 and 9 of those times it was followed by a recession within about a year.  (If we were at my house, he would graph this for you on a napkin.  Paper or cloth.  Seriously.  For this blog, however, you get a proper graph, below.)


The one time it wasn’t followed by a recession was 1966, when it was followed by weak growth… But technically not a recession. (Seriously, dad?  I wasn’t even born in 1966.)

So, I Understand How It Works.  Is the Yield Curve Flat Today?

Well, Daughter. Currently the yield curve is still positive and upward sloping.  But it has been steadily getting flatter. The differential between short and long-term rates are now just .32% compared to a normal spread of around 2 to 2.5%.  (Ahhhhh…!)

What Are  Some Possible Explanations for This Flattening Yield Curve?

Funny you should ask. (He was going to explain anyway.) You know about the “Trump Bump.” The stock market had a significant surge after Donald Trump was elected president.  During his first year in office, the Dow Jones Index went from 18,259 to 26,392, an increase of nearly 50%. But… in January it shed 2,500 points in two weeks.  And it has been bouncing around the 24,000 point level ever since. (Visualize my dad bouncing salt shakers across the edge of the table to illustrate here.)

  • One explanation is that investors are getting spooked by uncertainty over trade wars and other Trump policies.  Just take a look at the Cboe stock market volatility index. It averaged 11.85 in 2017. But so far this year it is averaging 16.94.
  • Also, many investors are “baby boomers” who either retired or are nearing retirement age.  After the big market rally, they seem more interested in preserving their stock market gains than taking additional risks.
  • And from a broader perspective, the Obama Administration kept interest rates near zero for eight years to stimulate investment. At the same time, the federal government borrowed massive amounts of money from abroad in an effort to spend our way out of the recession. But the artificially low cost of capital distorted the capital structure of our economy.  That means significant over-investment in the most capital-intensive sectors.  (Ah… so Republicans can blame this all on Obama administration policy failures?)
  • Not so fast, Daughter. The Federal Reserve Bank knew its policy of “quantitative easing” was unsustainable and was poised to raise interest rates as soon as the economy improved. But with unemployment at historic lows, the Trump administration decided to pour even more money into the capital markets.

(Do you have questions about how quantitative easing works? Here is my favorite explanation ever: Quantitative Easing Explained.)

So You’re Describing a Boom and Bust Cycle… Is This Cycle Inevitable?

Well, we’ve seen this before.  In the Austrian school of economics, it is known as the over-investment theory of the business cycle. According to this theory, there is a natural structure to investment in the economy based on people saving and investing. Boom-and-bust business cycles are created by temporary injections of funds into the capital markets that lead to low interest rates and investment levels that cannot be sustained. Sustainable growth comes from people saving to finance investment, not temporary injections of capital that create the illusion of prosperity.

Okay, Wait… What I Really Wanted to Know Is Whether the Yield Curve Is Signaling That the Big Boom is About to Turn Into a Big Bust?

Right, Daughter! Some financial analysts argue that the yield curve doesn’t apply to our new, technology-driven economy and that there are still many unexploited profit opportunities out there. They are urging the Federal Reserve Bank not to raise short-term interest rates. And they will likely blame the Fed if they do raise rates and a recession ensues. (Wait… I’m a bankruptcy attorney.  Isn’t a recession good news for me and my colleagues?)

Well, yes, Daughter.  Some people may be rooting for a recession for perverse incentives. (Paternal stink eye.) Or for political reasons. An economic downturn, for example, could be bad news at the polls for Trump and the Republicans. (The big tax cut was more a Republican idea than Trump’s idea).  I am not among them. We need economic growth to pay just the interest on the $20 trillion debt our government has amassed.  And it’s not just the US. The world is awash in $164 trillion of debt, which will make it harder for countries to respond to the next recession and pay off debts if financing conditions tighten.

So What Does Your Economist’s Magic 8 Ball Predict for the Upcoming Year?

The big economic stories will be inflation, higher interest rates, and a declining stock market. This is very much at odds with the picture the Trump administration has painting as it poured “rocket fuel” onto the economy. And I am not rooting for a recession. (Stink eye again.) As an economist, I’m just informing you of the situation as I see it so you can take precautionary measures.  (Like taking vacation now, before the recession wave hits….?)

If you would like to know more about this, google “an inverted yield curve” and decide for yourself.  Or I can give you my dad’s email.

Mette K.



Filing Alert: Samuels Jewelers Files… A “Chapter 44”?!

Texas-based retail jewelry store operator Samuels Jewelers has filed its fourth Chapter 11 bankruptcy case. This time, the beleaguered company is hoping for a going concern sale.

The First Three(!) Chapter 11 Cases

Samuels Jewlers traces its origins to a jewelry chain founded in 1891, Barry’s Jewelers, as a single store in Los Angeles. In the 1980s, Barry’s rapidly expanded into indoor shopping malls.  At the time, it was one of the fastest-growing jewelry chains in the country.  But Barry’s experienced small waves of unprofitability, filing Chapter 11 petitions in 1992 and 1997.  Following the second bankruptcy, it changed its name to Samuels Jewelers, its most recognizable brand.  The company filed its third bankruptcy in 2003, emerging with new owners. It later relocated to Texas.

Who Is Samuels Jewelers?

emerald-1137412_1920Gitanjali Gems, an Indian public company, acquired the company in 2006.  Samuels Jewelers operates over 120 stores across 23 states. Its brand names include Roger Jewelers, Andrews Jewelers, Schubach Jewelers, and Samuels Diamonds. In addition to its retail stores, the company has an e-commerce operation.

Why Has It Filed Another Bankruptcy Case?

The company cites several operational problems leading to its bankruptcy filing:

  • Increased industry competition from discount and e-commerce stores;
  • Operational deficiencies;
  • Climbing expenses;
  • A failure to keep up with customer preferences and build up of stale inventory.

The company has also been hard-hit by negative publicity associated with an investigation by the Indian Central Bureau of Investigation (CBI) into Gitanjali – Samuel Jewelers’ sole equity holder and one of its suppliers and lenders. The CBI has alleged that Gitanjali and others defrauded multiple Indian banks. Samuels’ states that some of its former directors, board members, and executives have been implicated, including its former CFO and president. While Gitanjali is no longer operating, this has disrupted Samuels Jewelers’ product supply and funding sources. And the situation has caused the company to lose standing with vendors, resulting in terminated relationships and more supply chain disruption. Moreover, according to the company new details and allegations continue to surface.

Samuels is at least the second jewelry company to file a chapter 11 case this year in the aftermath of a CBI investigation. In February, Firestar Diamond filed for Chapter 11 bankruptcy protection following news reports in India that its majority shareholder and parent had colluded with Punjab National Bank to obtain over $1 billion in unauthorized loans.

The (Hail Mary) Sale Effort

Although Samuels Jewelers says it is seeking a sale, its filings indicate it has yet entered into a purchase agreement with anyone. In fact, it has not even hired an investment banker. That is “in process,” it says. But the company states optimistically that it has received “some indication of interest” and is “hopeful” that a sale will be possible.

Meanwhile, Samuels Jewelers plans to start selling excess inventory and run store closing sales.  It has enlisted a joint venture of Gordon Brothers Retail Partners and Hilco Merchant Resources as an asset disposition consultant to help with that effort.

Because Samuels Jewelers is pursuing a potential going-concern sale, the consulting agreement includes a fiduciary out provision to allow the  company to terminate the agreement and pursue a partial or full going-concern sale.

The Committee Formation Meeting

girl-1438138_1920.jpgThe committee formation meeting is set for Thursday, August 16, 2018, at 10:00 a.m. It will be held at The Du Pont Hotel in Wilmington, DE. While you’re there, you can check out the “classy nouveau Victorian-inspired” lobby makeover by acclaimed New York architect and interior designer Campion Platt. Or stay in touch with your office with their new, top of the line Wi-Fi.  But definitely stay inside.  The weather forecast?  83 degrees, a downright tropical 65% humidity, and scattered thunderstorms.

Case Information

The case number is 18-11818, and it is pending in the Bankruptcy Court for the District of Delaware. The case has been assigned to Judge Kevin Carey. Prime Clerk is the claims and noticing agent.  For more information, you can view the company’s “first-day” global declaration here.

Mette K.

Filing Alert: Real Mex Files “Chapter 22” Bankruptcy Case

Real Mex Restaurants, a California-based company and one of the nation’s largest full-service Mexican casual dining restaurant chain operators, filed for “Chapter 22” protection on Monday, August 6, 2018.

Who Is Real Mex?

Real Mex operates three restaurant chain brands: El Torito, Chevy’s Fresh Mex, and Acapulco Mexican Restaurant.  It also operates two El Torito Grills, Singual, and Laguna Beach landmark, Las Brisas. From a high of approximately 128 restaurants in 2012, today it operates about 70 restaurants.  Almost all are in California. In addition, Real Mex has 11 franchised restaurants across the US.

The First Chapter 11 Case

The Real Mex debtors purchased the restaurant family in 2012 through a Chapter 11 bankruptcy sale. At that time, Tennenbaum and Z Capital were secured noteholders. They emerged as the new company’s majority owners. Today, the Real Mex debtors include a holding company, RM Holdco LC, and five affiliates.  

Why Has Real Mex Filed a 2nd Bankruptcy Case?

Real Mex cites to many problems leading to its bankruptcy filing:

  • Operational inefficiencies;
  • Losses and shut-down costs associated with an unprofitable centralized food purchasing and distribution service and specialty product manufacturing business;
  • Millions of dollars in costs, and lingering litigation, associated with shuttering underperforming locations;
  • Millions of dollars in costs resulting from failed expansion efforts;
  • Risk-management expenses;
  • Rising employee wages and high rent costs, particularly in California;
  • Deferred maintenance at some locations; and
  • Rising financing costs.

The Sale  Effort

Real Mex has engaged industry-expert Piper Jaffray to market the company for sale. Ultimately, the process resulted in a high bid by one of the company’s current owners, Z Capital.  The “headline” purchase price is $46.75 million. Real Mex has proposed the following sale timeline:

  • Bid deadline: Sept. 21, 2018
  • Auction: Oct. 4, 2018
  • Sale hearing: Early October 2018

Case Information

The case number is 18-11795, and it is pending in the Bankruptcy Court for the District of Delaware. The case has been assigned to Judge Mary F. Walrath. KCC is the claims and noticing agent.  If you are looking for more information, you can view the company’s “first-day” global declaration here.

Mette K.

Filing Alert: ABT Molecular Imaging Files for Chapter 11 Bankruptcy Protection

ABT Molecular Imaging, Inc., a Louisville-based medical imaging company, filed for chapter 11 protection this morning.

ABT’s Business

ABT’s filings state that it designs, manufactures and distributes the world’s first and only smallfootprint Biomarker Generator (“BG-75”) for Fludeoxyglucose (18F) (“FDG”).  What is that, you ask? It is the imaging agent used in positron emission tomography (“PET”).

Still confused? Wikipedia explains. In medicine, a biomarker is something that doctors can use as a measurable indicator of the severity or presence of a particular disease. And PET is a new type of imaging biomarker that they can use to measure where in the body cells take up glucose. Why is that important?  Because glucose is present at inflammation sites, and also because tumors take up a lot of glucose.

So ABT has developed BG-75, which a really efficient way for its customers to use PET biomarkers to locate inflammation sites and tumors.  It developed BG-75 in 2009, delivered its first unit to a well-known medical university in 2011, and has taken orders for 23 additional units to customers across five continents.  The sale of one BG-75 also generates around $175,000 in recurring annual consumables and service revenue streams over the life of the system.  And annual service contracts average revenue of $80,000 per year.  In combination, the company has historically generated approximately $1.3 million of incremental revenue per BG-75 over the five-year period following installation.  Sounds great, right?

The Bankruptcy Filing

Unfortunately, ABT’s finances are deeply troubled. It reports consolidated sales of $5,403,000 for 2017, but a net loss of $5,516,000. Its assets have a net book value of roughly $2.5 million, but it has total liabilities of approximately $30 million.  Consequently, ABT filed its bankruptcy case to adjust its balance sheet, or if that doesn’t work, to sell the company to a qualified purchaser.  SSG Capital Advisors is its investment banker.

ABT’s Capital Structure

ABT’s funded debt consists of two secured term loan facilities agented by SWK Funding LLC and several unsecured loans from two of its shareholders, Intersouth Partners VII, L.P. and Mr. Ronald Nutt.

Its original First Lien Lenders provided ABT with a senior secured term loan facility of up to $4 million. They assigned the credit agreement to SWK, as agent and lender, in 2016, and it has been amended several times since to address defaults.  Today, the aggregate principal outstanding is approximately $9,683,333, including $2,350,000 in amounts that were advanced this year.  ABT proposes to “roll up” this debt as part of a post-petition financing facility.

SWK as agent, and certain lenders, entered into a Second Lien Credit Agreement with ABT in an amount up to $10 million.  Today, the  aggregate principal outstanding under the Second Lien Term Loan is approximately $16,161,455.

ABT also entered into several subordinated unsecured promissory notes with Intersouth totaling $1,136,000. And ABT and Mr. Ronald Nutt entered into two subordinated unsecured promissory notes totaling approximately $1.8 million.

But that’s not all.  ABT also owes roughly $180,000 to some 65 trade vendors.

Customary “First-Day” Motions

To support its transition to bankruptcy, ABT has filed customary first-day motions, including motions to:

  • Continue its cash management system;
  • Pay employee wages, insurance premiums, and taxes;
  • Provide deposits to utlility companies;
  • Limit stock trades; and
  • Pay critical vendors

Case Information

The case number is 18-11398 (LSS). The case has been assigned to Judge Laurie Selber Silverstein and is pending in the Delaware Bankruptcy Court. Garden City Group is acting as claims and noticing agent.  Additional information is available in the company’s “first-day” global declaration, available here.

Mette K.

Sancilio Pharmaceuticals Pursues a Bankruptcy Sale

Sancilio Pharmaceuticals Company filed for chapter 11 bankruptcy protection on Tuesday, June 5th, in Delaware. Sancilio is one of several pharmaceutical companies to file for chapter 11 relief in recent years. Others include Orexigen Therapeutics, Protea Biosciences, and Unilife.

Who Is Sancilio?

A Florida-based pharmaceuticals developer and manufacturer, Sancilio focuses on four business segments.

  • Its lipid technologies platform includes its lead product for treating pediatric sickle cell disease, Altemia.  This soft gelatin capsule has secured “Orphan Drug” status from the U.S. Food and Drug Administration and the European Medicines Agency. Sancilio also has a “deep” advance lipid technology pipeline of other proprietary drug candidates.  SC401 targets severe hypertriglyceridemia.  SC403 targets short bowel syndrome.  SC410 targets non-alcoholic fatty liver disease.  SC4l2 targets retinitis pigmentosa and macular degeneration.  And SC4l3 targets epilepsy.
  • Sancilio’s over the counter supplements and prenatal vitamins segment include its Ocean Blue over-the-counter and behind-the-counter supplements of highly concentrated omega-3 fatty-acid fish oil. Ocean Blue supports cardiovascular and metabolic health. The behind-the-counter supplements in the line are available from pharmacies within national and regional retail stores.  The over-the-counter supplements are nationally distributed and available through retail channels.
  • The company’s prenatal vitamins provide vitamin and nutritional supplementation.  They contain no artificial colors, flavors, sugars or dyes and are gluten and saccharin free. And the debtors’ dental health supplements are fluoride-based and intended for use as a substitute for fluoridated water. Sancilio sells these products through drug wholesalers, and directly to retail pharmacies.

Sancilio also has two non-debtor foreign affiliates based in China and India, Sancilio Medical Technology (Shanghai) Co., Ltd. and Sancilio Pharmaceuticals Private Limited.  Sancilio states that these affiliates have limited assets will dissolve.

Why Are They in Bankruptcy?

The business requires substantial working and investment capital, along with clinical trials that often cause delays, before generating return in a market where pricing and demand of each of its business lines is highly volatile. Sancilio says that its access to capital became increasingly constrained beginning in 2017, culminating with a “liquidity crisis” by the year’s end. The company obtained a $5.5 million equity infusion in early 2018 to pay overdue trade claims and carry it through to a sale, but that sale did not materialize.  Its lenders then refused to continue funding the business and threatened foreclosure if it did not file a Chapter 11 case.

The Bankruptcy Auction.

Sancilio has filed a motion seeking approval of two “stalking horse,” or opening, bids for its business.

  • K.D. Pharma Bexbach GmbH has made a $2.5 million cash offer for the Ocean Blue line of omega-3 fish oil supplements.  KD holds about 12% of Sancilio’s equity, and the bid is a joint venture between KD and a minority group lead by John Licari and Anthony Valetutti, current Sancilio employees, managers, and former board members.
  • MidCap Funding Trust XIII has presented a credit bid of at least $15 million for most of the company’s other assets. MidCap is an affiliate of company’s lenders and holds about 1% of Sancilio’s equity.

Cassel, Salpeter & Co. is the investment banker.  Bids are due on July 16, 2018, and the auction is scheduled for July 18, 2018.

Initial overbids for the MidCap assets must exceed their bid by a 3% breakup fee and $250,000 in cash and must include a $1 million expense reimbursement.  Since the MidCap purchase price is based on a formula, estimated to equal at least $15 million, MidCap must confirm the purchase price within two business days after entry of the bid procedures order.

Initial overbids for the KD assets must exceed their bid by a $75,000 breakup fee, $100,000 expense reimbursement, and $100,000 in cash, for a total minimum overbid of $2.775 million.

All subsequent overbids at auction will be $250,000.

If a bidder offers to buy all of the assets, then the purchase price must be at a minimum the amount of the aggregate of the MidCap and KD minimum overbids. Bids may also be for another combination of assets, in which case the debtors, along with MidCap as lender, would determine whether the bid is qualifying.

How Is Sancilio Paying for This?

Sancilio is funding the sale process with $5.3 million in post-petition financing provided by MidCap Financial Trust, as agent and lender, along with Flexpoint MCLS Holdings, LLC as lender.  The court has already approved $1 million on an interim basis, and it has scheduled the hearing to approve the balance of the funding for June 28, 2018 at 2 pm EST.

To protect the lenders, Sancilio has proposed to grant them consensual, priming liens superior to its prepetition secured lenders. The financing will have superpriority administrative expense status.  And Sancilio has agreed to provide the lenders with a lien on proceeds of avoidance actions—often a source of recovery for unsecured creditors—subject to the final order.  The facility includes a $265,000 origination fee (requested on an interim basis) and a 5% termination fee.

Sancilio’s prepetition lenders have agreed to allow Sancilio to use their cash collateral. In exchange, Sancilio has agreed to provide replacement liens and superpriority administrative expense claims and to pay their professional fees and expenses.  Sancilio has also agreed to its right to seek to surcharge their collateral under Bankruptcy Code section 506(c) and 552(b).

The proposed deadline for creditors to challenge the lenders’ liens is 75 days from entry of the interim financing order.  Or if a creditors committee is formed, it will have 60 days to bring a challenge.

How Much Money Is Available for Unsecured Creditors?

Sancilio reports $10 million to $50 million in assets.  Its debts include roughly $18.1 owed to its prepetition lenders and $5 million of unsecured claims, approximately $3.6 million of which are third party vendor claims.

The company believes it is unlikely that the pending sales will generate enough cash to pay a meaningful dividend, if any, to anyone other than the prepetition lenders.

The carve-out includes $90,000 for professional fees and $40,000 to fund a wind-down.

However, Sancilio has filed a motion to pay up to $580,000 in “critical vendor” claims, $290,000 of which was approved on an interim basis.  Sancilio has also filed the following motions:

  • To pay materialmen claims (granted authority to pay up to $22,000 on a final basis)
  • To pay insurance premiums (granted on an interim basis)
  • To pay certain taxes (granted authority to pay up to $85,000 on a final basis)
  • To satisfy reclamation claims (to be heard at the “second day” hearing)
  • To provide deposits to utility companies (granted on an interim basis).
  • To continue customer programs (granted authority to continue at its discretion)

The second day hearing is scheduled for June 28, 2018 at 2 p.m. EST.

The Bankruptcy Case.

The case has been assigned to Judge Christopher Sontchi (Case No. 18-11333 (CSS)).

Mette K.